Filtersome decisions are unethical and do not make it

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filter”—some decisions are unethical and do not make it through the filter, while others are ethical and pass through the filter. Examples of ethical considerations that might enter into decisions include not exaggerating product quality or durability, correcting environmental problems even though regulators or the general public would never know about them, and not exaggerating future cash flow projections in order to get a lower interest rate on a bank loan or bond issue. Each of these examples may decrease the size or delay the timing of cash inflows, or increase the riskiness of future cash flows—thereby reducing the stock price relative to what it could have been had one acted unethically. No doubt you have thought of other examples as well. Case Assessing the Goal of Sports Products, Inc. 1. Maximization of shareholder wealth, which means maximization of share price, should be the primary goal of the firm. Unlike profit maximization, this goal considers timing, cash flows, and risk. It also reflects the worth of the owners’ investment in the firm at any time. It is the value they can realize should they decide to sell their shares. 2. Yes, there appears to be an agency problem. Although compensation for management is tied to profits, it is not directly linked to share price. In addition, management’s actions with regard to pollution controls suggest a profit maximization focus, which would maximize their earnings, rather than an attempt to maximize share price. 3. The firm’s approach to pollution control seems to be questionable ethically. While it is unclear whether their acts were intentional or accidental, it is clear that they are violating the law—an illegal act potentially leading to litigation costs—and as a result are damaging the environment, an immoral and unfair act that has potential negative consequences for society in general. Clearly, Sports Products has not only broken the law but also established poor standards of conduct and moral judgment. 4. From the information given there appears to be a weak corporate governance system. The fact that management is able to measure and reward their performance on profits indicates that no one is watching out for the shareholders. Loren and Dale’s concerns indicate that employees apparently have an interest in the long-run success of the firm. Allowing the continuation of pollution violations is also apparently escaping the interest and control ability of others who should be monitoring the firm. 5. Some specific recommendations for the firm include: Tie management, and possibly employee, compensation to share price or a performance-based measure and make sure that all involved own stock and have a stake in the firm. Being compensated partially on the basis of share price or another performance measure, and owning stock in the firm will more closely link the wealth of managers and employees to the firm’s performance.
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Chapter 1 The Role and Environment of Managerial Finance 35
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